Cash Management Basics
Business analysts report that poor management is the main reason for business failure. Poor cash management is probably the most frequent stumbling block for entrepreneurs. Understanding the basic concepts of cash flow will help you plan for the unforeseen eventualities that nearly every business faces. Below, you will find useful information regarding the importance of cash management for your small business.
Cash vs. Cash Flow
Cash is ready money in the bank or in the business. It is not inventory, it is not accounts receivable (what you are owed), and it is not property. These can potentially be converted to cash, but can't be used to pay suppliers, rent, or employees.
Profit growth does not necessarily mean more cash on hand. Profit is the amount of money you expect to make over a given period of time, while cash is what you must have on hand to keep your business running. Over time, a company's profits are of little value if they are not accompanied by positive net cash flow. You can't spend profit; you can only spend cash.
Cash flow refers to the movement of cash into and out of a business. Watching the cash inflows and outflows is one of the most pressing management tasks for any business. The outflow of cash includes those checks you write each month to pay salaries, suppliers, and creditors. The inflow includes the cash you receive from customers, lenders, and investors.
Positive Cash Flow
If its cash inflow exceeds the outflow, a company has a positive cash flow. A positive cash flow is a good sign of financial health, but is by no means the only one.
Negative Cash Flow
If its cash outflow exceeds the inflow, a company has a negative cash flow. Reasons for negative cash flow include too much or obsolete inventory and poor collections on accounts receivable (what your customers owe you). If the company can't borrow additional cash at this point, it may be in serious trouble.
What Are the Components of Cash Flow?
A "Cash Flow Statement" shows the sources and uses of cash and is typically divided into three components:
How Do I Practice Good Cash Flow Management?
Good cash management is simple. It involves:
The starting point for good cash flow management is developing a cash flow projection. Smart business owners know how to develop both short-term (weekly, monthly) cash flow projections to help them manage daily cash, and long-term (annual, 3-5 year) cash flow projections to help them develop the necessary capital strategy to meet their business needs. They also prepare and use historical cash flow statements to understand how they used money in the past.
Have a Local Attorney Evaluate Your Financial Questions for Free
As a small business owner, you likely have questions regarding accounts receivable, profit growth, and basic cash management. A small business attorney in your area should be able to help you answer any legal and most financial questions you may have. Get a free attorney match today, with absolutely no obligation.